Back on June 4, 2018, the BDC Reporter wrote an article entitled “Triangle Capital: Final Proxy Filed“.
As the title suggests, the article reviewed and commented on some of the highlights of the upcoming shareholder vote regarding the sale of TCAP’s assets to Benefit Street Partners.
Plus, the monumental decision to have TCAP switch from being an internally managed BDC to being run externally by Barings, LLC.
Subsequently TCAP’s CFO Steven Lilly contacted the BDC Reporter to suggest 3 clarifications to what we wrote.
Given that the BDC Reporter is (almost always) fair minded and open to correction, we are passing on Mr Lilly’s comments as best we can to allow readers to make up their own minds.
However, we can’t help but add a further few additional thoughts of our own.
Point 1: Capital Available To Invest by Barings, LLC following the sale of the assets
What We Said:
The $937mn (estimated) proceeds will be used to repay outstanding obligations.
As expected TCAP’s existing Revolver and Baby Bonds will be paid off, and any accrued interest.
This amounts to $325mn.
However, still unclear is whether the BDC’s SBIC debentures will be required to be repaid by the SBA.
(Typically, the SBA requires repayment in full of any outstanding debentures following a change of ownership).
This affects $252mn in SBIC debentures outstanding.
Another $26.3mn has been allocated to the afore mentioned severance payments and professional fees.
That will leave $380mn available for re-investment by the new Investment Advisor.
What TCAP said to us:
Mr Lilly pointed out that we omitted from the net proceeds available for re-investment $198mn in cash sitting on the balance sheet prior to the consummation of the proposed sale to Benefit Street.
That would make funds available to re-invest $578mn rather than $378mn.
We missed this footnote (see number 7 on page 6 of the Proxy) when we were quoting from the table given with the title ” Remaining proceeds to be invested by the investment advisor”.
Of course, this is an important clarification as the funds available to re-invest (along with a contribution from Barings,LLC) will be effective equity capital of TCAP after the proposed changes.
Point 2: Vote on increasing leverage as allowed under the Small Business Credit Availability Act
What We Said:
We would have preferred if the new External Manager – like so many of its peers – had held off adopting the new leverage limit until a more exhaustive study of the pros and cons had been effected.
Requiring shareholders to say yes to much, much higher leverage with an untested Investment Advisor which has never run a BDC before and whose strategic approach exists only on paper, feels unduly pushy.
After all, whatever Barings, LLC’s track record in the debt arena, we are very late into the current economic cycle, and purchase prices and leverage multiples are at or close to all time highs; lender protections are at record lows and we face an uncertain future where interest rates are concerned.
An automatic shift to higher leverage mode may not be in shareholders long term interest at this stage.
What TCAP said to us:
The sale to Benefit Street Partners and the choice of Barings, LLC as External Manager and the issuance of new stock to the new manager are a package that have all to be agreed to for each to go ahead.
However, a No vote on leveraging up the BDC is not a condition for the three items mentioned above.
So shareholders could say yes to the central elements of the change in TCAP’s business while saying no to the increased leverage.
Last Word from the BDC Reporter:
We were not particularly hung up on whether the extra leverage vote impinged on the rest of the transaction.
As the quote above shows, our principal concern was the undue haste in addressing this game changing shift in status.
Many BDCs – even those intrigued by the notion of adopting the higher leverage under the Act and with much longer histories as BDCs – have held back from making that fateful decision.
Barings LLC, which has yet to talk to its future shareholders and has never run a public BDC and which will be building a portfolio from scratch – has still chosen to plow ahead with this proposal.
Even if not determinative, the BDC Reporter – concerned about the BDC losing its chance at being investment grade before even starting and still unsure how the economics of the fund will work – would have rather that Barings, LLC had waited till a later period when shareholders could make a more informed decision.
Point 3: Proposed Management Fee Level
What We Said:
…The Management Fee which Barings,LCC proposes to charge starts out fair (1.0% of assets) but quickly reverts to something less attractive.
In less than 18 months – shortly after the BDC gets fully invested in its new strategic direction – the Management Fee increases by a third.
Comparing And Contrasting
What TCAP Said:
Mr Lilly explained that when Barings,LLC was first chosen as the new External Manager, the Board sought to agree to a Management Fee equal or lower than its peers.
At the time – in TCAP’s view – the permanent management fee rate of 1.375% was one of the lowest fees in the BDC space for this size of fund.
Subsequently, though, the Small Business Credit Availability Act was passed to just about everyone’s surprise and GSBD followed up by setting a new standard for Management Fee, with a 1.0% rate.
The implication being that if the Board of TCAP had known then what we know now the Management Fee negotiated would have been lower.
Last Word From The BDC Reporter:
TCAP did not address the fact that American Capital Senior Floating already only charges a fee equal to 0.8% of assets at cost and PennantPark Floating Rate and Solar Senior Capital have charged a 1.0% Management Fee for years.
That notwithstanding- and given that GSBD has set a new standard with its 33% reduction in its Management Fee for all assets (versus the ungenerous offer by Ares Capital to only reduce its Management Fee to 1.0% on assets purchased when debt to equity exceeds 1.0 to 1.0) – we remain unimpressed with this critical feature of the new External Advisory Agreement.
Barings,LLC could have unilaterally chosen to match GSBD’s pricing, but has not done so.
In the promised strategy of investing in lower risk-lower yield loan assets that Barings, LLC proposes to manage, every basis point is important to make the economics work for shareholders.
At an eventual Management Fee of 1.35%, Barings,LLC is far from offering a “shareholder friendly” compensation structure.
We have no doubt that the Advisory Agreement will be approved by TCAP’s shell shocked shareholders – who’ve seen the value of their stock drop by two-thirds in recent years and don’t have any other choive – but an opportunity has been missed.
This has been the case for a series of big name asset managers who’ve arrived lately on the BDC scene such as Carlyle with TCG BDC, Oaktree Capital Management with Oaktree Specialty Lending and Oaktree Strategic Income and KKR with Corporate Capital Trust.
Given the small fortunes these groups will be making thanks to the windfall from all those extra assets allowed under the Small Business Credit Availability Act this “squeeze the lemon” approach seems short sighted.
These asset managers – whatever their short term compensation – do not want to be left with zombie BDCs should investors come to the conclusion that their funds are run more for the benefit of the Investment Advisor than their shareholders.
Even if in the short run these BDCs can grow without new equity capital thanks to the Act, a time will come when common stock issuances will be necessary.
At that point, the chickens may come home to roost.
We appreciate the clarifications which TCAP made, and which we’ve sought to convey in this article.
We hope this discussion will help both existing TCAP shareholders and prospective investors in the soon-to-be-renamed and re-oriented BDC gain a balanced picture.
For our part, we remain supportive of the sale of TCAP’s assets; the stock investment by Barings, LLC and its stock buy-back arrangement (ironically very similar to what Goldman instituted at GSBD) as well as the switch to an external management structure.
We may not be delighted by the level of the Management Fee, which is now middle of the road for the type of assets TCAP will be targeting, but remains in the ballpark of acceptability.
True to our theme of caution, though, we remain opposed to signing up for the higher leverage allowed under the Act till at least a few quarters have passed.
As Alexander Pope famously said: “Fools rush in where angels fear to tread”.
Or, to quote our own less famous rhetorical query: “What’s the hurry ?”
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Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
Additional disclosure: We are Long TCAP's two Baby Bonds.